Interview with La Stampa
Interview with Fabio Panetta, Member of the Executive Board of the ECB, conducted by Marco Zatterin
5 May 2022
The war is dominating economic developments. Global shocks that have emerged on the way out of the pandemic – surging energy prices and supply bottlenecks – have been exacerbated by the invasion of Ukraine. Tensions have become persistent and more acute: inflation is rising while economic activity is showing signs of slowing. This makes the choices facing the European Central Bank more complicated, as a monetary tightening aimed at containing inflation would end up hampering growth that is already weakening.
The European economy is de facto stagnating. Growth in the first quarter was 0.2%, and would have essentially been zero without what may have partly been one-off spikes in growth in certain countries. The major economies are suffering – GDP growth has slowed in Spain, halted in France and contracted in Italy. In Germany growth momentum is low and has been weakening since the end of February, which is the point when everything changed.
Yes. And we should not lose sight of the fact that inflation is being fuelled by international factors that are reducing purchasing power and weakening consumer demand and investment. Monetary policy has only limited room to affect this imported inflation. The drivers of inflation are global, not European.
Some are suggesting that you should act in order to appreciate the exchange rate.
The exchange rate is determined by the market. Moreover, the shocks we are facing are so large that a few percentage points of appreciation in the exchange rate would have limited impact. Not to mention that a strong euro would weigh on foreign demand, squeezing growth further.
What might be a strategy for action?
First of all, we need to gain a comprehensive understanding. At present, we do not have the hard data necessary to accurately assess the war’s impact on demand and growth. We are talking about potentially large effects: the reduction in euro area income due to increased import prices amounts to 3.5% of GDP, or about €450 billion. The evolution of GDP in the first quarter reflects only partially the impact of the war. We have to wait for the second quarter figures to get a clear picture. Our monetary policy is data driven, and we cannot make decisions before we have seen the figures.
We must be prudent, recognising what we can do, but also what we cannot do. We can and must prevent high inflation from becoming entrenched in the economy, which would lead to price increases that we saw as temporary becoming a structural and permanent phenomenon. We would react decisively, for example, if we observed a deterioration in inflation expectations or wage increases that were inconsistent with our 2% inflation target over the medium term. There is no clear evidence that this is happening, but we cannot ignore the risk that it might.
But what can't you do?
We cannot tame inflation on our own without causing high costs for the economy. We need to act on multiple fronts, not just through monetary policy.
What do you mean?
The international community has a duty to work to stop the war and to end the atrocities taking place in Ukraine. But supporting Ukraine and doing all we can so that the war ends quickly is also the best way to quickly reduce inflation. Peace would ease tensions in international markets (oil, gas and food) that are driving up inflation.
Can you elaborate on what you mean by “supporting Ukraine”?
We all hope that the war will be brought to a swift end through diplomatic means, to stop any more lives from being lost. But if that does not happen, I think we should help the Ukrainians in the way they best see fit, including helping them to defend themselves. And we should support their economy.
In what way?
It’s not just about weapons. There is diplomacy and there is economic support. For instance, there is the issue of food exports: the destruction of infrastructure and freight capacity in Ukraine will have an impact on the world’s supply of wheat and grain. We need to assist Ukrainians with logistics, and help preserve their capacity to export in spite of the Russian maritime blockade and increasing damage to key transport infrastructure. We are already doing this: the EU has suspended all duties on imports from Ukraine and is facilitating the use of EU infrastructure to deliver Ukrainian exports to third countries. But we can do more and achieve important results, for them and for ourselves.
What other action is possible on the inflation front?
We need to strengthen European cooperation. If we want to respond to global tensions, we need a “European shield”. This means coordinating our policies on energy – for example to reduce dependency on Russia – and on food imports. This also means coordinating our fiscal measures to contain the costs of imported inflation. We must implement the agreements made at the Versailles summit in March: in pursuing “open strategic autonomy” we can make value chains safer, diversifying them within the Union. Take for example the opportunities that could be opened by transferring certain production activities to less developed regions of Europe, such as the South of Italy, attracting the capital that is moving away from those countries that are now considered riskier by global investors.
There we go. Back again to southern Italy.
I've been saying this for some time. The pandemic and the war have opened our eyes to the risks, and not just the benefits, of relocating production sites in areas far away from where we are. The South of Italy is safer and more competitive than other parts of the world. Particularly if this relocation can be realised in the context of a European project aimed at stimulating the creation of regional value chains.
So far, so good. But what about the ECB?
With medium-term actual and expected inflation around 2% we can gradually reduce the level of monetary accommodation, providing less stimulus to the economy than in the past. Under current circumstances, negative rates and net asset purchases may no longer be necessary.
The markets are talking about a decision in July.
It does not make much of a difference whether it is two or three months earlier or later. What matters is the signal, the direction of travel. And that is what we have indicated: in the next few weeks we will decide when in the third quarter net bond purchases will end. We will then decide about rates and could decide to bring negative rates to an end.
But it would be imprudent to act without having first seen the hard numbers on GDP for the second quarter and to discuss further measures without a full understanding of how the economy could develop over the following months. Discussing how many times we will act in the future, and when, is a futile exercise. Our decisions depend on data: on the pandemic, the war in Ukraine, the global economy – especially China and the United States – and on how all these factors will impact on inflation, demand and production. The uncertainty and the risks we face are enormous, and no one can reasonably envisage what will happen between now and the end of the year.
Should we be more afraid of stagflation or of a recession?
We are now in a delicate phase, and we should be concerned about any source of economic imbalance. The task of the central bank is to prevent inflation in the medium term from being inconsistent with the 2% target. There could be an economic cost to pay: we must reduce it to a minimum in order to safeguard employment and growth.
Is there a possibility of using the Outright Monetary Transaction (OMT) programme, launched in 2012 for the conditional purchase of government debt in the event of a crisis?
The lesson of the sovereign debt crisis is that in a Union with a single monetary policy and a fragmented fiscal policy at national level, monetary tightening can cause highly undesirable effects if growth is unsatisfactory.
We must prevent monetary adjustment from being accompanied by financial fragmentation. Even more so if fragmentation results from factors like the pandemic or the war that are independent of policies adopted by individual Member States. Faced with financial fragmentation that would impede the transmission of monetary policy, we should intervene decisively. The OMT reflects a different phase with different European policies. The success of our pandemic emergency purchase programme (PEPP) and the Next Generation EU programme clearly show that there are other possibilities that involve flexibility and cooperation, rather than confrontation, between Europe and its Member States.
What should European capitals do?
The events of the last two years call for closer coordination at European level. The energy transition, implementing the Digital Agenda, upgrading our health systems, strengthening our defence capabilities, and the other objectives set by European leaders at the Versailles summit in March imply investment needs for the production of common public goods that exceed the capacity of Member States were they to act alone. In a recent speech, I have shown that the EU as a whole will require a financial commitment of hundreds of billions of euro each year over the next decade. We can only meet these needs by strengthening fiscal capacity at European level.
Meanwhile, Italy is debating a further budgetary correction.
In view of the global challenges we face, Italy must continue to play an active role in Europe and act as a force for greater European cohesion, including at the fiscal level. The speech by Prime Minister Mario Draghi at the European Parliament was an important step in this regard.
As with spending under the National Recovery and Resilience Plan (Piano Nazionale di Ripresa e Resilienza – PNRR), do you think a common fiscal action on energy, the green transition and budgets is necessary?
This is already foreseen – implicitly or explicitly – by the Versailles declaration, including the strengthening of the fiscal capacity at European level. We now need to make progress in that direction.
It’s a nightmare scenario, with a war that drags on, recession, inflation, social unrest. Does it keep you up at night, too?
The doomsday scenarios don't consider the response of economic policies. How things play out in the future is also up to us.
The fact that our experience of the pandemic crisis differed from that of the global financial crisis is emblematic in this regard.
The fiscal policies adopted after the financial crisis – based on austerity, on the compression of domestic demand – actually contributed to prolonging the economic crisis, after a shock that was initially less severe than the pandemic one. Even monetary policy adopted the necessary expansive stance only with the arrival of Draghi at the ECB.
The reaction to COVID-19 was different. We stimulated domestic demand with wide-ranging European fiscal measures. Monetary policy intervened decisively, guaranteeing favourable financing conditions in all euro area countries and nullifying the deflationary pressures caused by the shock. And it worked: the fall in GDP was deep but short-lived and was followed by a sharp rebound.
This is why it is not useful to discuss end-of-the-world scenarios without taking into account our ability to intervene.
Speaking of unstable things. At a recent conference at Columbia University you argued in favour of regulating crypto assets. What are your thoughts?
I made a simple proposal: make crypto assets subject to rules similar to those in other sectors. Why is it that if you win the new year’s lottery you pay taxes and if you sell a crypto asset you don't? And why does a listed company, that produces value and creates jobs, have to follow precise rules for public offerings, while if you sell crypto assets you don't have to explain anything to anyone? The world of crypto assets cannot remain a kind of Wild West without rules: instead, it must be regulated like other sectors in terms of taxation, transparency, public disclosure and so on.
In some cases, more restrictive regulation or taxation would be appropriate. Think of those crypto assets that generate as much pollution as that produced by a country of ten million inhabitants in a year.
Should it be done quickly?
Yes. The value of the crypto asset market exceeds that of the subprime mortgage market that triggered the financial crisis. And it is a world about which we know little. Living with that kind of unknown is not prudent.
The response to this would be the digital euro...
The growth in crypto assets reveals an unmet demand for digital assets and payment immediacy. That demand needs to be met, and if central banks and regulated intermediaries don't do it, others will. That's why the ECB is working on a central bank digital currency. This has nothing to do with crypto assets: The digital euro, as opposed to crypto assets, would be a sound, reliable means of payment in the public interest. Like cash, but in digital form.
By 2023 we should devise a prototype. After that we will have three years to realise it. The digital euro could be issued in four or five years, if the ECB’s Governing Council and European authorities decide to do so.